By Philip Pilkington, a writer and journalist based in Dublin, Ireland. You can follow him on Twitter at @pilkingtonphil

While there are pretty stark dissimilarities between the current quantitative easing (QE) policies of many governments and the old monetarism that prevailed in the late-70s and early-80s, the reason that these both policies were ineffective is because they were based on the same flawed ideas. The key difference between the two is that where monetarism was implemented as a deflationary and contractionary policy, QE is currently being implemented as an inflationary and expansionary policy. As a result, examining the failure of monetarist policies thirty years ago provides important lessons considering QE and its offshoots.

Before looking at the similarities between these two doctrines, we will explore the actual historical trial of monetarism. We will focus on the British experience since the doctrine was applied there with far more zeal than in the United States. Indeed, Paul Volcker – Fed chairman at the time of the monetarist experiment in the US – has recently stated that he never believed in the doctrine and simply used the monetarist ‘fad’ of the day to push for unpopular interest rate hikes. By contrast, those working in the Bank of England at the time were true followers of the monetarist faith.

Maggie Thatcher’s Legacy: Monetarism in Britain

Margaret Thatcher was elected as Prime Minister in Britain in 1979. She was voted into office at a time when the British economy was undergoing an inflationary crisis that was mainly due to oil price hikes by the Saudis in response to political instability in the Middle East coupled with unions demanding that their wages keep pace with inflation. However, to paint this in such drab terms would be to illustrate the era poorly. The wage-bargaining process had become deeply inflexible and entrenched in Britain at this time. Unions were coming to be seen by many as a cancerous growth on British society and on British industry.

In 1978, one year before Thatcher was elected, Anthony Burgess wrote a short novel entitled ‘1985’. It was a poor piece of writing, as so much of Burgess’ output was – ‘A Clockwork Orange’ being a notable exception. Burgess grew up in a working class family and much of his work reflects his hatred of his origins. In his books the working class are usually portrayed either as hopeless dullards conditioned by the social system in which they live or as violent anti-social rebels who wreak havoc upon society. However, poor though it was Burgess’ ‘1985’ – which was supposedly an ‘update’ of Orwell’s excellent ‘1984’ – articulated what many in Britain had come to feel toward the trade union movement.

The story follows Bev, a man who had recently lost his wife to the callousness of the unionised staff at the state-run hospital service who were striking for a pay increase and neglected to treat her. In a moment of outrage that was soon to get him fired due to its anti-union tone Bev indicts the system of unionised work as a tremendous evil:

“My rage,” said Bev, “as you rightly term it, is the mere emotional culmination of a long-growing belief that the closed shop is evil, that it’s unjust to force men into being mere cells in a gross fat body that combines the torpid and the predatory, that a man has a right to work if he wants to work without having to jump at the shop steward’s whistle, and that, given certain circumstances, a man has a duty to work. A duty to put out a fire, if that’s his trade. A duty to –” He was going to say: drop nuts on chocolate creams, but he saw the absurdity of it. And then he did not see the absurdity of it. A child dying and wanting only one thing: a box of Penn’s Assorted. And everybody on strike and not a box left in the world, and the defiant worker, braving the threats and the blows, going to the machine–

Burgess’ ‘argument’ – if we dare use that term – is rather weak. Its striking workers that deny a dying woman healthcare is little beyond the caricature found in some of the more vulgar tabloid newspapers. (It, of course, being infinitely more likely in today’s world that a person will go untreated due to an inadequately funded healthcare system). However, due to the troubles taking place in Britain at this time such a view of unions resonated with much of the British public who could not see that the inflationary push underlying much of the strikes and the discontent were partially due to circumstances outside of the British government’s control. It is in this context that we must understand why the disastrous monetarist experiment was allowed to be carried out by the British public.

The aim of Thatcher’s monetarist policies was to attempt to control the rate at which the overall money supply grew. Thatcher and her advisers – relying on the work of Milton Friedman which will be considered in what follows – believed that it was the expansion of the money supply pure and simple that caused inflation. This was appealing to the Thatcher government for a number of different reasons. It provided them with an ostensibly scientific theory that told them that despite the fact they had no influence on the OPEC oil price and little direct influence over the unions and their wage bargaining, they could nevertheless simply order the Bank of England to target the amount of money allowed to be created and this would bring down inflation. The monetarists essentially allowed the Thatcher government to pretend that the inflation Britain was facing had nothing to do with either international or class politics and was simply a technocratic problem with a technocratic solution.

Traditionally central banks use interest rate policy to regulate the level of demand and hence inflation in the economy. However, in the post war years the use of interest rate policy as an effective means to regulate the economy had fallen into disfavour – especially after the British government had launched a detailed investigation into monetary policy in the early 1950s named the Radcliffe Committee (to be discussed in more detail when we consider the theory as opposed to the practice of monetarism). The monetarists claimed that the British government need no longer use straightforward interest rate targeting to get inflation under control. Instead they would simply target the supply of money and let interest rates fall where they may.

But in Practice…

The monetarist experiment proved disastrous. The Bank of England failed completely to control the money supply and succeeded only in causing interest rates to spiral out of control. This threw the economy into a deep recession. Between the last quarter of 1978 and the last quarter of 1980 the M3 measure of the money supply – the target of the monetarists – rose by some 32.8%; this was significantly faster than in the years before the targets had been initiated. Meanwhile unemployment skyrocketed and businesses shut their doors.

The British filmmaker Adam Curtis made an excellent film entitled ‘The League of Gentlemen’ [http://www.youtube.com/watch?v=BRu4SnBz7TY] as part of his series ‘Pandora’s Box’ [http://en.wikipedia.org/wiki/Pandora%27s_Box_%28television_documentary_series%29] which dealt extensively with Britain during the monetarist years. Here is a clip from that film describing the situation in Britain as the monetarists tried to target their monetary aggregates:

Nevertheless, despite the fact that the experiment was a complete failure, the Thatcher government clung onto the policy with a determination that bordered on zealousness. Thatcher and others had put so much stock in the monetarist doctrine and its supposed scientificity that to abandon it would have been an enormous embarrassment to the government and its champions.

Note the resemblance to today’s QE program. Many in the markets and the media have succumbed to a sort of ‘QE fatigue’ as it is obvious that the policy has not produced the desired effect. Nevertheless, QE continues to live on as a sort of undead policy tool. A great deal of the reason for this is that those engaged in the markets can still trade on QE. For example, if another round of QE is announced by a central bank an investor can short the currency of that country, buy their government bond or throw money at the stock market. The brief increase or decrease, generated mostly by self-fulfilling expectations, can then give their portfolios a boost. Economists and commentators also cling to QE because it gives them something to talk about which they can use to enhance their prestige – this even though QE, stripped of its aura, is a straightforward asset swap program that a child could understand.

Back to the early 1980s. Something eventually had to give. And, not surprisingly given the absurdity of the monetarist policies, the Thatcher government eventually folded. However, Mrs. Thatcher never admitted that she had been wrong. Instead she pretended that her government had never subscribed to the policy. Here is a wonderful interview with Thatcher taken from Curtis’ documentary where she flat out denies that she was ever an enthusiast of monetarist.

Scorched Earth

By the mid-1980s the inflation in Britain was coming down. One of the main reasons for this was the fall in oil prices as the OPEC cartel drew back their price rises. But another reason was that Thatcher’s policies had, through the massive recession that the monetarist policies had induced, hollowed out the British trade union movement – and with it a good portion of British industry.

The recession was brought about mainly through the chaotically high interest rates of the period – which remained at double digits through most of the monetarist era – together with tax rises and cuts to government spending that were ostensibly taken to meet the monetary targets. The channel through which this affected the economy was mainly that producers became extremely nervous about the future as they saw sales fall – a good deal of the effectiveness of this policy was due to self-reinforcing expectations. The high interest rates also strengthened the British pound which led to exports falling and domestic goods being outcompeted by the now cheaper foreign goods. All this, coupled with the high and unstable rates of interest they had to pay on loans, led British businesses to cut investment rapidly. As investment fell so too did employment and a depressionary spiral ensued. Much of British industry crumbled and went bankrupt; those industries that did survive were much smaller than they had previously been.

This is a point lost on many who look back on the era. These policies did not have the effect of redistributing income from the workers of the factories to the owners, but rather they simply destroyed large segments of British industry. As the British economist Nicholas Kaldor wrote in his book ‘The Scourge of Monetarism’:

[Monetarism] is not, therefore, a viable method of restoring a ‘broad balance of power in a framework of collective bargaining’ [as the Thatcher government had claimed]. It is a method of ruining both sides of industry at the same time, and not of strengthening one side at the expense of the other.

Some of the more reflective civil servants who took part in the monetarist experiments later became dimly aware of what they had engaged in. Here is yet another short clip from Curtis’ documentary in which a government banker reflects on what had taken place in the during the reign of monetarism.

Whether the government or segments of the government were conscious of what they were doing is unclear. Kaldor, for one, thought that they really did believe in the monetarist doctrine. However, Paul Volcker’s admission that he effectively used monetarism as a smokescreen cited at the beginning of this piece casts some doubt on this. Regardless, the effects of monetarism are now crystal clear.

One more of these effects should briefly be considered before in the next part of this series we move on. Monetarist policies, as Curtis alluded to in his documentary, greatly benefited the finance community in the City of London. Again this was not due to monetarist mysticism or money supply targets, but simply that the objective effect of the policy was to greatly strengthen the value of the British pound through persistently high interest rates. This attracted much foreign capital to the City of London – including the capital that was being paid out to the oil sheiks as they price-gouged British consumers. This, together with the light-touch regulation that the Thatcher government favoured, led to financial services becoming a mainstay of the British economy. No longer would the interests of British manufacturing dominate debates over economic policy in Britain. Monetarism was, in a very real sense, the harbinger of a new dawn for Big Finance in Britain.

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34 comments

I can’t explain the dramatic rise of rail passengers in the UK without this policey of driving down yields in a era of declining bank consumer credit.(for cars and stuff)
There are also local factors of course but now large sections of the rail system is beginning to Jam up because of a lack of fiscal production / investment.

Its quite funny really – many 19th century malinvestments are the only thing Britain can fall back on now that the country was deindustrialised post Suez and accelerated into a loads of money culture post 1980.
PS There was a massive shift away from Gas – back towards Coal withen the British first quarter energy figures which is going unreported.
The post 1990 dash for gas liberlisation period seems to be crashing to a halt.

There appears to be demand destruction manifesting itself in the UK electricity figures.
First quarter fell 3.4% at 99.5Twh vs 103.1 Twh (this puts the hyped onshore wind contribution of 3.4Twh is some perspective despite much winder conditions when compared to the anticyclone cold winter of Y2010)

This is the lowest first quarter electricity consumption figures since 1998.

So, UK nuke output in decline, and windpower doubles in two years? What gives? And the cost of that wind capacity, versus that of those ageing NPPs, and all that still-to-be remediated waste?

See here for Kelvin Spencer talking about costs for nuke vs coal-derived electricity being “cooked” at the dawn of the nuclear age, to the chagrin of Windscale/Sellafield designer Christopher Hinton, who realised he’d been had:

@Anon
You clearly don’t know the history of the British Nuclear Industry.
Lawson (of boom bust period) gutted the Nuclear industry 30 years ago now.
They managed to produce one modern PWR (Sizeweel B – online mid 1990s) before the programme was shut down.

Anybody would tell you if you make one of anything it tends to be expensive.
So therefore all of the research and development was wasted.

The British Isles is the most extreme long running Malthusian experiment on the planet – its decline has been masked by the North Sea which is now in catostrophic decline.

It really has nothing to show for these post 1960s years (the first period of time when the IMF dictated policey decisions)

The increase in wind energy has as much to do with the changing of the North Atlantic Jetstream this past year as new wind capacity.
Wind requires Gas plants on line for immeadiate switch on so therefore is a very very expensive method of production.

Great article. I was wondering if you would like to be interviewed on my podcast about this series of articles? It is called ‘From Alpha To Omega’, where i interview experts from a range of fields, with a particular focus on Political Economy. You can check it out here:

“Thatcher and others had put so much stock in the monetarist doctrine and its supposed scientificity that to abandon it would have been an enormous embarrassment to the government and its champions”

Much like the “failed/disastrous” War On Terror, the pursuance/adherence to policies that while appearing to be “failed” but in actuality benefit those of the elite classes is now the time-tested MO of our masters.

The WOT is a boondoggle on the order of TRILLIONS of dollars by which anyone connected with the MIC has stood to gain untold fortunes of largesse.

Of the failed economic policies of the last 4 decades the exact same thing can be said.

Now are we to believe that the clinical sociopaths – read: incapable of feeling shame – who inhabit our elite echelons are loath roll back the policies that they indeed benefit from just because they would be embarrassed?

I’m sure Dimon, Blankfein, et al are as terribly, terribly worried about being “shamed” again in public by the peers as are Cheney and Rumsfeld if one were to question them on the WOT. (Read: Go F*** Yourself, pissant.)

Just because layers and layers of society/academia have accepted notions of elite “good-will” concerning their actions for decades, doesn’t mean one can’t start to see them all as the instigators, curators and beneficiaries of a vast criminal enterprise that they truly are.

The monetarist experiment proved disastrous. The Bank of England failed completely to control the money supply and succeeded only in causing interest rates to spiral out of control. This threw the economy into a deep recession. Between the last quarter of 1978 and the last quarter of 1980 the M3 measure of the money supply – the target of the monetarists – rose by some 32.8%; this was significantly faster than in the years before the targets had been initiated. Meanwhile unemployment skyrocketed and businesses shut their doors. Philip Pilkington [emphasis added]

I reckon Maggie did not understand endogenous money creation. And the rise in the money supply was primarily to finance commodity speculation? In essentials that people need?

To quote Noam Chomsky, “When policies are pursued for many years with unremitting dedication though they are known to fail in terms of proclaimed objectives, and alternatives that are likely to be far more effective are systematically ignored, questions naturally arise about motives.”

Indeed. We nhould simply ask who benefited from the off-shoring of production, the financialisation of the economy, the mass destruction of unionised jobs and the erosion of economic democracy?

I think the mistake the Monetarists make is to overestimate the need for reserves. What does a bank need reserves for anyway? To settle accounts with other banks? But interbank lending negates much of that need (at a price). To settle accounts with the national government? But unless the national government runs a surplus that is at worst a wash. For actual physical cash withdrawals? But people get cash to spend, not to hoard under the mattress so that money is likely to go right back into the banking system.

Banks are almost pure counterfeiters. If a country had just one bank, a national government that never runs surpluses and at least balanced trade, why couldn’t that bank issue an infinite amount of credit without even worrying if the loans were repaid?

Thank you Philip. Really interesting trip down memory lane. Loved Mr. Beane. And that last clip was so disconcerting its sentiment should have been followed up on years ago. And today as well. Since in those same decades we got the same thing here as if they were saying innocently “England? What England?” I’m wondering about OPEC too. Did OPEC raise prices? I doubt it. “International competition” has really been a way for big corporations to get obscenely rich while destroying entire countries. Mitt Romney. Ronald Reagan’s union busting and, worse, congress cutting off money to state mental hospitals producing the first wave of intractable homelessness. The devastation only allowed undeveloped economies to rise at an unnaturally accelerated pace. Destroying more of the environment, avoiding regulation. Really, Maggie was a better actress than Meryl.

We are clearly seeing the manifesation of malthusian dynamics withen the UK these past 30+ years … although the roots of this malaise go back to the Labour goverment of the 60s.
So electricity demand (a proxy for real consumption rather then monetary pound figures) is at 1998 figures…..

Yet the population of England grew 3.6 million since 2001
population of Wales grew .153 million
population of N.I. grew .125 million

So we have a clear policey of deindustrialisation yet at the same time the goverments encourage immigration on a massive scale…..
Something is just not right.
The real standard of living is collapsing to Victorian levels by some measures as the carrying capacity of these islands overshoots.

Southern Ireland is the most extreme of these large social experiments with GNP per head declining by 37,000~ to 27,000 + withen 5 years !!
@Phillip
Did you look at those recent Irish national accounts…..the revised GNP per head is very strange given the rise of population and decline of GNP.
Have you any idea of the methodology of those numbers ?
I am sure it is not a straight division of people /GNP
Something is just not right.

look to figure 2 in this British census PDF Document.
The decline in GDP withen the Baltics may not be so bad per head given the young people are moving west on a vast scale.

GNP per head is going down, yet if anything, that measure masks the gutting of the majority population’s wealth. Being an average, it fails to show the redistribution from the 99% to the 1%. I wonder what the median share of the GNP per head, per worker, or per household would look like?

@Sterling
Good question.
I have questioned the validity & methodology of these figures on the Irish economy blog and yet got no response.

Speaking from personel experience in my town its as if a economic neutron bomb has exploded.
The buildings remain but the people remain inside to die.

There has been a systematic cultural , economic and social attack on Ireland which accelerated post 1987 into something beyond horrible.
We are clearly a interesting experiment for those folks who like taking apart entire societies piece by piece.

I despise those labour goodies who clearly have not worked down in the gutter with Latvians or anybody.
They do not see the Irish or Latvians as people who share different cultures and values but as mere conduits for their sick capital experiments.

There not much remaining from my country now – its a void ,with the social pact broken repeatedly
Its the 1820s Napoleonic depression Ireland repeating itself – people of a Gaelic background walking as if dazed by headlights headlong into modern traffic.
Its the same guys behind the curtain.

“However, Paul Volcker’s admission that he effectively used monetarism as a smokescreen cited at the beginning of this piece casts some doubt on this..”

Secrets of the Temple – William Grieder is pretty clear about the utter failure of monetarism. The monetary crowd at the Fed at one point get pretty clueless about even how they should measure the money supply because however they measured it they could never be confident about the real number. They kept raising interest rates but it seemed to have almost no effect on the money supply. In the end the Governors who gave support to the monetarists had to conclude it was an abject failure and turn around. Greider also documents clearly Volckers ambivalence about monetary theory and that he just went along with it as long as he could use it as an excuse to keep raising interest rates.

I wonder how Anthony Burgess felt about copyright violators? Did he think he had a “duty” to let anyone print copies of 1985, or did he maybe think he had the right to withhold it, and only allow it to be printed in return for money?

And I wonder how he would have felt about a visitor knocking on his door and declaring that, since the visitor was willing to write for less money than Burgess, Burgess would have to let him have his typewriter? Or did Burgess think he had the right to his own typewriter, and the right to stop anyone else using it, even if that someone else was a cheaper writer, and therefore of more utility to society?

I always have a problem with the double standards of anarchists who are so intent on the state upholding property rights yet advocate a no holds barred system of commerce.

They seem to believe it’s perfectly ok to bully, cajole, threaten, deceive, misrepresent, lie, cheat, trick, use any means of non violent coercion and set up any kind of institutional structures to gain an unfair share of property and excess production.

When the manipulated and deceived masses realise they have been duped and are really powerless to compete on merit alone. When they have no choice but to use force to rectify the unfairness. The libertarians will be quick to bring the full violence of the state down on their heads.

Left leaning libertarians at least propose holding most property rights in common leaving a more open playing field for talent and merit.

Private property owners, or would-be owners, can be surprisingly communitarian about their public right to other people’s labor. As the Burgess quote shows, they think workers owe them services, no matter what. Low wages? Keep working. Layoffs? Keep working. No toilet breaks? Keep working, dammit.

The character in the Burgess novel quoted got quite emotional about his opinion that workers simply have no right to withdraw their work even temporarily, or picket their place of work. No right.

“The Partition of London” – .01% Royalty of East & West, snug & smug. The Shard glisters by day, a bedazzling rapture in fanfare: emanating beams of colored “light” across the Imperial Universe, sweeping the surfaces of Big Ben, the Tower, the Thames, the Palace, the Inns of Court of the beating heart of , gilded glory, with all due pomp and circumstance of Victorian Destiny, to eye and ear proclaiming:

“The Walls of Babylon are Souls of Men, her Gates the Groans
Of Nations, her Towers are the Miseries of once happy Families,
Her Streets are paved with Destruction, her Houses built with Death,
Her Palaces with Hell & the Grave, her Synagogues with Torments
Of ever-hardening Despair, squar’d & polish’d with cruel skill.”
……………….

The problems with QE are manifold but as a pro-growth policy, it is laughable.
Balance sheet recession.
Too much debt, too little wages.
So, lets name Billions for excess reserves and give bankers a return on it.
It’s actually called Quantitative Monetary Easing.
Hello.
Some bells should be going off.

We need demand in the economy….
Spending power that doesn’t exist because of the failed monetary system.

But the interest-based monetarism of Thatcher and the conservatives was merely a charade for the wealth and power grab.
It said little to nothing of the importance of monetary aggregates to the real economy by actually, directly providing purchasing power through money management to M-1, where we all live and work.

Neither QE – it doesn’t ENTER the important monetary measures, nor Reagan-Thacher monetarism – which was about banker monetary assets – come close to describing the monetarist solution to the problem, which is managing the national currency to serve the exchange needs of the economy.
Directly.
Through issuance.

The debt-money system, that of private bank creation of all of our means of exchange as a debt, is what’s broken, and the cause of the debt crisis, and the maladjusted wealth distribution in this country.
We need a public administration of the money system.
The banking system needn’t be like a utility.
The money system should provide the utility of debt-free issuance of permanent exchange media.

This article completely misses the major macro event of the Thatcher years.

“Margaret Thatcher was elected as Prime Minister in Britain in 1979. She was voted into office at a time when the British economy was undergoing an inflationary crisis that was mainly due to oil price hikes …”

Yes, and due to North Sea Oil Britain was transitioning at that exact point from a large oil Importer to a medium-sized Oil EXPORTER. The breakeven point was within a year or so of Thatcher taking over.

Thatcher’s economic policies got a huge free ride from the impact of this change on the national Balance of Payments.